How Credit Score is calculated
The exact formula for calculating credit score is proprietary information owned by Fair Isaac Corporation (FICO).
However, the following five factors and the approximate importance given to each factor are identified by FICO for calculating your credit score:
Payment History (35% of credit score):
Your payment history is the biggest contributing factor in calculating your credit score. Gathering the lion's share of 35%, your payment history takes up the most prominent factor slot in your credit score calculation. Whether you have been timely in paying off your bills or not, plays out a huge impact on your credit score. Payment history is determined from the following information:
- Payment information on credit cards, retail accounts, mortgage, installment loans, etc.
- Presence of adverse public records such as bankruptcy, suits, liens, etc.
- Number, length and amount of past due accounts.
- Number and amount of accounts paid on time.
Amounts Owed (30% of credit score):
Next factor are the amounts owed by you. 30% of your credit score is based on this pointer. Amounts owed and your credit score have an inversely proportional relationship. This implies that the higher the amount owed, the lower the credit score. The amounts you owe are determined from the following information:
- Balance due on accounts.
- Number of accounts with balances.
- Proportion of credit limits used on credit and installment accounts.
Length of Credit History (15% of credit score):
Next up in line is the length of your credit history that contributes approximately 15% towards your credit score.
This factor has a directly proportional relationship with your credit score. Thus, a longer credit history invariably increases your
score by providing more information about your spending and payment habits, and your ability to manage credit responsibly over an
extended period of time. The length of credit history is determined from the following information:
- Time since various accounts were opened.
- Time since various accounts were used.
New Credit (10% of credit score):
New credit is the next factor that accumulates 10% of your credit score calculation. You carry a greater credit risk for lenders, if you have opened several credit accounts in a short period of time or have several credit inquiries in your credit report. The risk shoots off sky high especially if you have a short credit history. Credit inquiries remain on your credit report for two years. However, your credit score is only affected by the inquiries made within a year. It is not advisable for you to make unnecessary credit inquiries. This should not discourage you to shop for favorable credit as credit score calculation algorithm is smart enough to distinguish between new credit and rate shopping.
New credit is determined from the following information:
- Number of new accounts and how recent these accounts were opened.
- Number of new credit inquiries and how recent these inquiries were made.
Types of Credit Used (10% of credit score):
Types of credit used contribute approximately 10% towards your credit score. Having different kind of credit accounts increases your credit score as it
represents your experience of managing a mix of credit. It is important to note that the mix of credit accounts is not a key factor in calculating your
credit score. This factor only comes in the picture when lenders do not have enough credit information from other factors. Therefore, it is not advisable to open different kind of credit account just for the purpose of showing better mix of credit.
Types of credit used are determined from the following information:
- Number of various types of accounts such as credit cards, retail accounts, mortgage, installment loans, etc.
In addition to the above main credit score factors, there are some pointers you ought to keep in your mind for obtaining credit from lenders:
- Your credit score is an accumulation of all the factors combined and not just calculated by taking one or two factors into consideration.
- The emphasis given to each factor is different from person to person depending upon their overall credit report.
- Your credit score is calculated strictly from your credit report. However, lenders look at several additional factors such as your current income, length of your current employment, whether you own or rent your house/apartment, the type of credit your requesting, etc.
